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Passive income can sound like a brilliant idea. But how realistic is it in the real world to try and earn money without having to work for it?
The answer to that question depends on the approach you take.
One way many people earn passive income is by buying shares in companies they hope will pay them dividends in future.
Sometimes that works brilliantly. After all, FTSE 100 companies alone pay out well over a billion pounds per week on average in dividends.
But sometimes the approach is less successful: dividends are never guaranteed at any company. Careful selection of a diversified portfolio of quality shares can help.
Starting from where you are
It is not necessary to start on a big scale. In fact, as an example, I will use the idea of putting £30 a week into dividend shares.
Over the course of just one year, that would add to up around £1,560. With a long-term mindset focused on investing over the course of years, that might only be one small part of the long-term investment pot.
But even using £1,560 as an example, at a 5% dividend yield, that ought to earn some £78 or so of passive income in a year.
Or those dividends could be reinvested (known as compounding). Compounding £1,560 at 5% annually for just five years would already take it up to just short of £2k. At a 5% dividend yield, that would be enough to earn roughly £100 of passive income per year.
The bigger picture, though, is not just to contribute or compound for one year.
Putting in £30 a week, compounding at 5% for a decade, the portfolio ought to be worth around £19,073. At a 5% dividend yield, without putting another penny in, that should be enough to earn some £953 of passive income annually.
Making astute choices
There are some assumptions here, I might add.
I assume someone has a platform to invest, but if not they could easily look into a share-dealing account or Stocks and Shares ISA.
I also assume dividends are constant. They may not be: companies can cut them. Then again, they raise them too.
Another assumption is the 5% average yield. That is above the current FTSE 100 average of 3%. But I do think it ought to be achievable in today’s market while sticking to large, proven businesses.
One share I reckon passive income investors ought to consider is FTSE 100 insurer Aviva (LSE: AV). It currently offers a 5.4% yield.
Insurance is a large market with resilient demand. As the nation’s leading insurer, Aviva can benefit from that.
It has economies of scale, that should have grown further this year with the integration of Direct Line. Aviva has a huge customer base, deep underwriting experience, and also a strong brand. Those attributes help it to generate substantial spare cash, funding the dividend.
Aviva is no stranger to dividend cuts, though: it slashed its shareholder payout five years ago.
I do see risks, as with any share. Integrating Direct Line – a business that had problems before it was taken over – could distract management attention from core activities, for example.
Still, I reckon Aviva has some serious long-term income generation potential.
